We explored why retirement planning is important in the first part of this two-part article, how to plan for your retirement: Chapter 1, and how much you need to save/invest to accomplish your retirement objective. In this chapter 2, we will explain how mutual funds may assist you in reaching your retirement goals. Before we go into the details of the subject, it’s important to understand the many cycles of wealth-building; you need to develop money to retain your financial independence and lifestyle to live a long and meaningful retirement.
Three stages of wealth generation
Accumulation phase: During this phase, you save and invest to build a corpus. This stage encompasses the majority of your professional career.
By the time you reach this phase, you will have gathered a large phase. Your primary objective now is to protect or increase your money without taking unnecessary risks. This is the period of life in which you are nearing retirement or other significant life objectives such as your children’s further education or marriage.
This is the era in which you receive the rewards of your hard work during your professional career. You are now entirely reliant on the money generated by your assets. This is often the time of your life when you retire.
Mutual funds provide answers for each of the three stages of wealth accumulation. This piece will explain how to approach mutual funds from the perspective of an ordinary salaried retail investor trying to save for retirement.
SIP for the period of accumulation
A Systematic Investment Plan (SIP) is a kind of mutual fund investment in which relatively modest sums are invested at regular periods (e.g. weekly, fortnightly, monthly, etc). Monthly SIPs, for example, automatically deduct the SIP amount from your savings bank account and invest it in the mutual fund plan of your choosing each month. The AMC will assign you mutual fund units based on the current Net Asset Values (NAV). SIPs are good for wealth growth since they provide the following benefits: –
You may begin investing with relatively little sums from your regular savings early in your working lives using SIPs. SIPs may be started with as little as Rs 500 or Rs 1,000.
By beginning early, you may benefit from extended investment tenures and the power of compounding. Compounding is the process through which profits are earned on profits re-invested. The figure below illustrates the growth of Rs 10,000 monthly SIPs across various investment horizons, such as 10 years, 15 years, 20 years, 25 years, and 30 years, at a 10% annualized rate of return (ROI). As you can see, money accumulates rapidly overextended investment horizons.
The growth of Rs 10,000 monthly SIPs over ten years
Swaraj Finpro analysis Assumptions: Rs 10,000 monthly SIP, 10% compounded annual growth rate. Disclaimer: The chart above is only illustrative for investor education. The chart should not be interpreted as a forecast of future returns or advice to invest. Before investing, consult with your financial counselor.
SIPs assist you in adhering to your financial plan’s discipline. SIPs eliminate the need for market timing since you invest at several price points. In both momentum-driven and highly volatile markets, a lack of discipline may cause investors to make emotional judgments (motivated by greed and fear). This will ultimately undermine your interests.
By investing consistently, you may profit from market volatility by averaging the investment’s cost. In volatile or bear markets, rupee cost averaging might help reduce the cost of purchasing units.
Invest in the appropriate asset class to achieve your financial objectives. According to historical statistics, equity as an asset class has the potential to provide greater long-term returns. The graphic below illustrates the 20-year returns on a Rs 10,000 monthly SIP in Nifty 50 TRI. With a total investment of Rs 24 lakhs over the previous two decades, you may have amassed roughly Rs 1.4 crores (as of 31st December 2021) for long-term objectives such as retirement planning. As equity funds or aggressive hybrid funds may be ideal investment vehicles for younger individuals seeking to save for retirement.
Returns on a monthly SIP of Rs 10,000 in the Nifty 50 TRI during the past two decades
Swaraj Finpro Analysis: National Stock Exchange. Dates range from 01.01.2002 to 31.12.2021. Disclaimer: Past performance does not guarantee future success.
You may also be interested in reading: how to maximize your mutual fund SIP results.
The phase of transition or preservation
Since you are near your financial objectives, you must adjust your investing plan, as you cannot afford to leave your financial future to the whims of financial markets. As a result, you should reallocate your assets away from higher risk profiles and toward reduced risk profiles. Mutual funds provide a diverse range of investment options for individuals with varying risk tolerances and financial objectives.
There are numerous hybrid funds available, including balanced advantage funds, equity savings funds, and conservative hybrid funds, as well as debt funds such as low duration funds, short-duration funds, medium duration funds, corporate bond funds, and banking and public sector funds, all of which have varying risk/reward profiles. Choose the right fund to adjust your asset allocation by your risk tolerance and investment objectives. Simultaneously, you should maintain allocations to equities even after retirement to produce a capital appreciation and combat inflation over the long run.
SWP in the period of distribution
This is the period of your life in which you are entirely reliant on the financial flows supplied by the corpus you have acquired. A significant portion of India’s elderly population is reliant on interest earned on bank fixed deposits and government small savings schemes such as Senior Citizens Savings Schemes, Post Office Monthly Income Schemes, and others. However, mutual funds provide alternatives that may generate a greater rate of return (subject to market risk) and are also more tax-efficient than typical fixed-income investing choices.
SWPs are a kind of mutual fund investing strategy that provides guaranteed cash flows at regular periods. You may set the amount, the intervals (monthly, quarterly, yearly, etc.), as well as the day of the month, quarter, or year, on which SWP occurs and the money paid to your bank account. SWP’s cash flows are generated when the asset management firm redeems units from your portfolio. The number of units redeemed will be determined by your SWP amount and the current NAV. The number of units redeemed will be determined by your SWP amount and the current NAV.
The figure below illustrates the SWP returns on a Rs 1 crore investment in a portfolio of mutual fund schemes comprised of 50% equity funds and 50% debt funds during ten years ending December 31, 2021. Assume you remove Rs 50,000 from this portfolio each month. As you can see, despite withdrawing Rs 60 lakhs from this portfolio over the previous decade, your wealth would have increased to roughly Rs 2.2 crores. This wealth accumulation enables you to take more from your assets to keep up with inflation.
SWP results from a Rs 1 crore investment in a portfolio of mutual fund schemes comprised of 50% equity funds and 50% debt funds during ten years ending December 31, 2021.
Swaraj Finpro analysis: National Stock Exchange. Dates range from 01.01.2012 to 31.12.2021. Assumption: The index Nifty 50 TRI represents equity funds, whereas the index Nifty 10-year benchmark G-Sec represents debt funds. Disclaimer: Past performance does not guarantee future success.
Suggestions for more reading: Retirement Plan
SWP is a more tax-efficient investment vehicle than conventional fixed-income investments. Profits earned on withdrawals from equity-oriented funds beyond 12 months from the date of investment are subject to long-term capital gains tax. Long-term capital gains in equity-oriented funds are tax-free up to Rs 100,000 per year and are thereafter taxed at 10% plus any relevant surcharge or cess. Profits earned on withdrawals from non-equity or debt-oriented funds beyond 36 months from the date of investment are subject to long-term capital gains tax. Long-term capital gains on non-equity or debt-oriented funds are taxed at 20% plus any relevant surcharge and cess, once indexation advantages are taken into account.
Important to note in SWP
If you want to maintain your SWP for an extended length of time, you should have modest withdrawal rates. If your yearly withdrawal rate is smaller than the average rate of return on investment, you may get both regular cash flows and capital gains from your SWP over sufficiently long investment horizons. When designing your SWP, you should keep exit loads and short-term capital gains in mind. If necessary, you should speak with a financial professional.
- Determine the amount of money you need to save and invest for retirement.
- Begin saving and investing as soon as possible in your working career.
- Maintain a rigorous approach to investing. Make no emotional choices in response to market moves.
- Concentrate on asset allocation to maintain a healthy balance of risk and return as you advance through various life phases.
- When making financial selections, keep tax ramifications in mind.
- Consult your financial adviser if you want assistance with retirement planning.
- Mutual fund investments are subject to market risk; thoroughly read all plan papers.